CONDEMNATION AND MORTGAGE LENDERS’ RIGHTS

EMINENT DOMAIN
Over the years the definition of public good has been significantly expanded. A very well known Supreme Court case in 2005 affirmed the right of the city of New London, Connecticut to "take" certain property and transfer it for a dollar a year to a private developer with the expectation of eventually generating increased municipal revenues. Even though there was strong negative public reaction to this decision, including some states restricting their powers of eminent domain, no property is immune to the potential actions of a state or municipal condemnation of property. Obviously, this may have significant consequences for mortgage lenders.

CONDEMNATION
Condemnation is the actual act or exercise of the power of eminent domain, and must be exercised with the payment of "due" or "just" compensation. Other than this very basic requirement, state laws run the gamut with respect to procedures and rights of parties. Mortgage lenders must be aware of these provisions in order to protect their interests and participate in the condemnation process to the fullest extent possible.

RIGHTS OF PARTIES
Some states view the parties to a condemnation action as the owner as well as all persons having an interest in the property, while other states exclude those with nothing more than a security interest. The manner in which a mortgage lender is viewed by a state will determine such matters as whether it will receive notice and to what extent it can participate in the condemnation proceedings. Treatment can vary from full participation to total exclusion, with a mortgage lender having only a remedy against the mortgagor.

PROTECTIVE MORTGAGE CLAUSES
An owner/borrower should always be required to promptly give notice to the lender, and to take all appropriate action to collect the award. The borrower should be restricted from accepting an award without the written consent of the lender. The lender should be allowed to step into the shoes of the borrower and settle with the taking authority if the lender feels that the borrower is not handling the proceeding satisfactorily.

Condemnation clauses should also address matters such as a partial taking of property and how much of the award should be used to partially pay off the mortgage. Many clauses allow the lender alone to make this determination. It is also important to describe how prepayment penalties and other adjustments should be handled.

CONCLUSION
With strong protective condemnation clauses in a mortgage, a lender may be able to protect its interests even in the face of contrary state provisions or lack of provisions. These provisions will define those private contractual matters between borrower and lender that should survive a condemnation proceeding, barring anything contrary in the law. Strong condemnation clauses may never be needed but they will afford a lender with the best protection possible in case the unexpected becomes a reality.